Commodities Markets & Trading Flashcards

What is the 'basis' in commodity futures trading?

Answer: The difference between the local cash (spot) price and the futures price

The basis is the difference between the local cash (spot) price of a commodity and its futures price, reflecting factors like location, quality differences, transportation costs, and time to delivery.

A commodity producer who sells futures contracts to lock in a future sale price is engaging in:

Answer: A short hedge to protect against falling prices

A short hedge involves selling futures contracts to lock in a future selling price, protecting commodity producers against the risk that prices will fall before they can sell their physical output.

Which factor does NOT typically serve as a direct driver of commodity spot prices?

Answer: The price-to-earnings (P/E) ratio of commodity-producing companies

Commodity spot prices are driven by physical supply/demand fundamentals, weather, geopolitical factors, and production costs; P/E ratios are equity valuation metrics that do not directly determine commodity prices.

What does 'rolling over' a futures position mean in commodity trading?

Answer: Closing the near-month contract and simultaneously opening a later-month contract

Rolling over means closing the expiring near-month futures contract and simultaneously opening a contract with a later expiration date, maintaining continuous market exposure without taking physical delivery.

The cost-of-carry model for commodity futures pricing includes all of the following EXCEPT:

Answer: Dividend yield on the underlying asset

The commodity cost-of-carry model includes storage, insurance, and financing costs; dividend yield is an equity concept applicable to stocks, not to physical commodities.

What is 'convenience yield' in the context of commodity futures pricing?

Answer: The implicit benefit derived from holding physical commodity inventory

Convenience yield represents the non-monetary benefit of holding physical commodity inventory — such as the ability to meet unexpected demand or keep production running — which reduces futures prices relative to spot prices.

When a commodity futures contract is 'marked to market' daily, this means:

Answer: Unrealized gains and losses are settled daily through the margin account

Mark-to-market means unrealized gains and losses on futures positions are credited or debited to margin accounts at the end of each trading day, ensuring the financial integrity of the market is maintained continuously.